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Investing Beyond the Hype Cycle

NEW YORK (TheStreet) -- Almost two decades ago, the Gartner Group created a graphic called the "hype cycle" to explain its own behavior, and that of other analysts.

The graph looks like a hill followed by a slope. The hill shows a new technology's potential being hyped well beyond its capability, then falling precipitously and gradually picking up momentum toward its true potential.

Internet investors saw a long hype cycle, lasting right until the Time Warner-AOL merger in January 2000. The fall was profound, but some companies from that era including Priceline.com and Amazon.com, are bigger than they ever were. GOOG barely existed when the hype ended.

Social investing went through a hype cycle, but the cycle crashed before the investing public was invited to the party. That's why the Facebook IPO was such a disaster. The flood of stock was a "Time-AOL" event for the space. The bubble popped. But that doesn't mean there was no "there" there. There was. How much, we'll find out.

The 3-D printing market has just gone through its own hype cycle. The space looked like a big winner last year, but if you got into the leading stocks -- 3D Systems or Stratasys -- three months ago you caught a top. Both are down about 20% from early January.

What the hype cycle really means for investors is that if you get in early, you have to be prepared for a hard fall. Those who get into the cycle, don't fall in love with the space, and get out quickly, like Mark Cuban did with Broadcast.com in the 1990s, can come out billionaires. Those who don't, like David Weatherell of CMGI, now ModusLink, can lose billions.

Since Gartner came up with its chart I've seen countless hype cycles. There was a broadband boom, there was hype around the Internet of Things, there was a health IT boom and one around open source. In each case there was something real, but nothing like what the hype promised. In some cases the hope has yet to be realized.

All of which brings me to "the cloud."

The cloud is in the process of rolling over in its hype cycle, just as it starts to achieve real results for business. You can see this in the stocks of VMware, RedHat and Rackspace, all of which have fallen hard in the last few months as hype has turned to a demand for unreasonable returns that were never there in the first place.

Cynics may note that Amazon doesn't seem to have fallen like this. But it has dropped $25/share in price since January, from its high of $283 to its present price of about $258.

But with Amazon, it can be argued the cloud is just one piece of the business, which is a bet on the future of its physical infrastructure -- not just cloud but warehouses and logistics. That story remains intact, and has gone beyond the hype cycle. Thus, a loss of roughly $12 billion in market cap could be just the cloud coming to Earth.

Where the hype cycle really has an impact is on closing the door to new competitors, shutting off their financial oxygen. Piston Cloud, for instance, with its cloud stack you can load from a memory stick, or Nebula, with its $100,000 cloud box, may not get the prominence they might otherwise because they're just late to the party. They will have to prove themselves.

The hype cycle has a purpose. It's designed to attract capital to places that need it. It can deliver spectacular returns to those who know how to ride the wave.

But to ride it you have to time the market, getting out while the getting's good, or you have to be there for the long haul and wait for the cycle to crest before you invest a dime.